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Home > Cases > ABS & CDO Investment Losses > Investigation into Underreported Risks; Subprime Loan Risk Drastically Underreported. Wall Street Firms Under Investigation

Investigation into Underreported Risks; Subprime Loan Risk Drastically Underreported. Wall Street Firms Under Investigation

Prosecutors in New York and Connecticut, along with the SEC, are examining evidence that Wall Street investment banks actively withheld material information about the risks inherent in investments tied to high-risk “exception” and other subprime loans. Among the riskiest of subprime loans, exception loans are those that failed to meet even the questionable credit standards of subprime mortgage lenders and Wall Street firms. More than any other, you'd expect these investments to come under due diligence.

Yet according to some outside, due diligence consultants hired to examine the loans being considered for purchase, pooling and resale, what the investment banks called “due diligence” was a sham. The banks routinely ignored the red flags the experts raised, and even told the consultants to drastically scale back the number of loans they examined. “We stopped checking,” said one loan examiner. “Common sense was sacrificed on the altar of materialism.”

The credit rating firms who were next in line say that underwriters generally did not provide due diligence reports, even when they were requested. But the ratings firms waved along the exception loans anyway, often bestowing them with investment grade ratings.

According to officials, these exception loans took up 25% to 50% of some portfolios and in other cases as much as 80%. Yet in the prospectuses for these subprime portfolios, the investment banks gave only standard, “boilerplate” disclosures. These kinds of disclosures are really just “overbroad, useless reminders of risks,” said Connecticut's attorney general, Richard Blumenthal indicating that they may not be enough to shield the banks from legal liability. “…[A] company that knows in effect that the disclosure is deceptive or misleading can't be shielded from accountability under many circumstances,” Blumenthal said.

On January 12, 2008, Vikas Bajaj and Jenny Anderson reported in the New York Times that New York attorney general Andrew M. Cuomo had opened an investigation last summer into how the investment banks bundled billions of dollars of exception loans and other subprime debt into complex mortgage investments. Mr. Cuomo has subpoenaed Merrill Lynch, Bear Stearns and Deutsche Bank AG, seeking information about their conduct in the creation of subprime mortgage investment instruments. The State of New York gives Mr. Cuomo broad powers to bring criminal as well as civil charges, while in Connecticut the attorney general can only bring civil charges.

We'll keep you posted as charges are filed.

In the summer of 2007, our group, who individually and collectively have extensive experience in representing investors against Wall Street, formed an affiliation. Our affiliation of lawyers is actively involved in advising individual and institutional investors in evaluating their legal options when confronted with subprime and other mortgage related investment losses. Contact us.


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